How should you finance your business?

4 common funding sources

If there’s one obstacle that stops many would-be business owners in their tracks, it’s financing. Although there are business ideas that require little startup capital, the motto “you need to spend money to make money” often holds true. Whether it’s to launch or expand your business, you’ll likely need financing at some point. There are four common options to finance your business that you can choose.

Bootstrapping

Originating from the expression of pulling yourself up “by your bootstraps,” bootstrapping involves financing your business entirely with your own money. You’ll start out using your savings, and once you’re earning a profit, you can reinvest that money into your business.

Since you’re only using your money, you avoid paying any interest and you won’t put your credit score at risk like you would with a credit card or loan. The drawback is that you’re limited by the amount of money you can save, which could end up slowing down the expansion of your business.

Bootstrapping allows you to see if you have a profitable idea before pursuing other options for financing your business.

 

Saving enough money to launch your business is also a good litmus test for whether you’re financially responsible enough to own one.

Keep in mind that even if you want to apply for a loan, lenders will ask how much of your own money you’ve committed to your business.

Business credit cards

Finance Your Business Credit CardCredit cards are never good for long-term financing because they tend to have higher interest rates than loans. But for short-term financing, a 0-percent annual percentage rate (APR) business credit card is among your best options. The 0-percent APR lasts for an introductory period, with most ranging between six and 15 months.

Business credit cards also earn you either reward points or cashback, making it a good idea to use one for all your business spending to maximize your return.

There are some purchases you can’t make with a credit card, though.

You’ll need a good credit score to qualify for those 0-percent APR offers, and when the introductory period ends, the card issuer will charge you interest on your current balance. Make sure you have a plan to pay your card off before the APR goes up.

Credit card applications are available on the card issuer’s website. They usually require just basic information about you and your business, taking only minutes to complete.

Microloans

Don’t be fooled by the name — you could borrow up to $50,000 through a microloan. These types of loans start at $500, and on average, business owners borrow about $13,000. Terms last up to six years, and interest rates usually range from 8 to 13 percent.

If a business credit card doesn’t fit your needs but you can’t qualify for a loan, microloans serve as a middle ground.

 

They’re easier to obtain than business loans and the interest rates are reasonable.

Although there are many lenders that offer microloans, the most popular way to find a lender is through the U.S. Small Business Administration (SBA). The SBA connects business owners with lenders through its Lender Match program. It also offers business training and in some cases requires you to complete that training before it will process your loan application.

When applying for a microloan, expect the lender to ask for proof of income, financial statements, your business plan, and how you intend to use the loan. The lender may also require references.

Business loans

This is the most traditional business financing option, as well as the most difficult to obtain. Amounts can vary significantly, from less than $100,000 to millions of dollars or more. With the right credit score, you could get a loan with an interest rate between 5 and 9 percent.

From a cost perspective, business loans are the best choice for financing because they offer the lowest interest rates. You can also borrow the most money this way. The issue is qualifying for one of these loans.

Business loans are available through the SBA, many banks and credit unions, and online lenders. Minimum requirements depend on the lender, but will typically include a good credit score, a profitable business that has been operational for at least two years, and annual revenue of at least $50,000.

Choosing the right method to finance your business

The right financing method for your business is likely a combination of those listed above. Most business owners start out with bootstrapping and business credit cards, then move on to microloans or business loans when they need more capital for expansion.

Image by: Visualhunt

Roman Shteyn
Roman Shteyn is the CEO and co-founder of RewardExpert.com — a free service that helps people maximize their miles and points to earn free travel. Roman has over two decades of experience in the credit industry and has helped decipher rewards programs for both businesses and consumers. Consumer credit advocacy is Roman's personal passion. A better informed public leads to more responsible use of credit cards, an area he has been involved in since the early ‘90s. As a consumer advocate, Roman frequently writes on credit-related issues, personal finance, small businesses trends, business travel, loyalty programs, and money-saving tips for both consumers and businesses. His professional focus has been on SEO and paid online marketing with a focus on analytics, metrics and campaign optimization using Big Data.